Money Management
November 11, 2024
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Every year, as a responsible citizen, you diligently fill out your tax returns, ensuring that you meet all your tax obligations. You spare no effort, often seek expert advice and meticulously double-check your filings to ensure compliance and avoid penalties.
However, tax planning doesn't need to be solely about meeting obligations; it can also involve minimizing the taxes you owe by employing savvy and legal tax avoidance methods. Effective tax planning involves leveraging various allowances, deductions, exemptions, and reliefs to lower your overall tax burden.
Your tax liability to the Kenya Revenue Authority (KRA) is determined by your tax bracket, which, in turn, is based on your taxable income and filing status. Fortunately, there are legal ways to reduce your taxable income without sacrificing your earnings; from increasing contributions to retirement accounts to investing in insurance.
Lowering your tax liability is essential for various reasons, all aimed at improving financial health. You will increase your disposable income, allocate more funds towards savings and investments, and, importantly, expedite your journey towards financial freedom.
Read Also: 7 New Government Taxes & Fees Coming In 2024
Tax avoidance involves minimizing the amount of tax you owe and maximizing your after-tax income. It involves strategic tax planning and the use of lawful methods, including taking advantage of tax reliefs and allowances provided by the tax authority, Kenya Revenue Authority (KRA).
Tax avoidance is distinct from tax evasion, which involves deliberately and illegally subverting tax laws to pay little or no tax.
While tax avoidance may be within the bounds of the law, tax evasion is not. Filing NIL returns when you earn above the taxable income or consistently manipulating figures to pay less tax than you should, may constitute tax evasion. In tax avoidance, individuals or businesses use tax planning and do not do anything illegal. Specifically, they take advantage of tax reliefs offered by KRA.
Tax reliefs offered by the KRA serve as incentives to reduce the tax burden on individuals and businesses. For example, every resident individual in Kenya is entitled to a personal relief of Ksh28,800 per annum (Ksh2,400 per month). KRA also offers other reliefs, which are discussed below.
According to the KRA, the Tax Procedures Act defines tax avoidance as "a transaction or a scheme designed to avoid liability to pay tax under any tax law." The Act also allows the Commissioner to impose a penalty equivalent to double the amount of tax that would have been avoided were a taxpayer found to have engaged in any tax avoidance scheme.
Read Also: All The Taxes You Pay In A Day If You Earn Ksh80k
Life insurance is a financial contract between an individual and an insurance company, where the insurer agrees to pay out a designated sum of money upon the insured's death or after a specified period in exchange for premium payments.
Life insurance has multiple benefits, including providing financial security for your loved ones in the event of your death, ensuring they are taken care of financially, and maintaining their standard of living. Some types of Life insurance proceeds can also replace lost income due to incapacitation. This can help to cover essential expenses such as mortgage payments, childcare, education costs, and daily living expenses.
Life insurance also offers tax advantages. Insurance Premium Tax Relief (IPTR) is a government-provided benefit for resident life insurance policyholders. This relief allows policyholders to claim a tax deduction of 15% of the premiums paid, capped at a maximum of Ksh60,000 per year. This deduction directly reduces taxable income, effectively lowering the amount of tax owed to the government.
Read Also: Why You Should Have Insurance As a Young Adult
A mortgage is a loan taken out to purchase real estate or property, typically with the property serving as collateral for the loan. When you take a mortgage, you must pay interest on the loan throughout its repayment, which is a significant component of the overall cost of homeownership.
In Kenya, individuals can take advantage of mortgage tax relief to reduce their tax burden. The law allows taxpayers to claim tax relief of up to Ksh25,000 per month or Ksh300,000 per annum on interest payments made on loans obtained for the construction or improvement of residential premises. It's essential to note that the mortgage must be from an approved and registered financial institution, and you must occupy the house to qualify for this relief.
With the mortgage tax relief, individuals can effectively lower their tax liability. This is achieved by deducting the allowable mortgage interest expenses from their taxable income, thereby reducing the amount of income subject to taxation. Ultimately, this provision encourages homeownership and property investment while financially relieving taxpayers.
Read Also: Mortgages in Kenya: Everything You Need to Know in Advance
Apart from life insurance, another avenue to qualify for tax relief in Kenya is investing in education insurance policies tailored to your child's future. These policies are structured to cover the expenses associated with your child's education, providing a financial safety net for their educational needs. Depending on the insurance provider or product, these policies can offer a balance between insurance protection and the potential for superior returns on savings.
Under Kenyan tax regulations, every resident individual is eligible for an insurance relief of 15% of the premiums paid for their child's education policy, capped at a maximum of Ksh60,000 per annum. However, to qualify for this tax relief, the education policy must have a maturity period of at least 10 years.
By deducting the allowable insurance premiums from your taxable income, you effectively reduce the amount subject to taxation in your payslip. Additionally, investing in education policies provides a structured approach to saving for your child's future education while enjoying tax benefits, ensuring their educational needs are met without compromising your financial well-being.
Read Also: How to Save For Your Child's Education By Age
Apart from the mandatory National Social Security Fund (NSSF) for salaried employees, you can reduce your tax burden by saving for retirement through a Registered Retirement Benefits Scheme.
Contributing to a Kenya-registered retirement benefit scheme offers tax benefits. You can deduct your contributions from your taxable income, subject to certain limits:
Additionally, you can invest in a Post-Retirement Medical Fund for further tax relief. Effective January 1, 2024, residents making contributions to such funds gain additional tax benefits. The relief amount equals 15% of the contribution paid or Ksh60,000 annually, whichever is lower. This is in addition to the health insurance tax relief you qualify for through the mandatory SHIF (previously NHIF) contributions.
Read Also: 8 Tactics You Need to Learn to Boost Your Retirement Savings
Receiving an income tax refund in Kenya means getting back excess tax payments or taxes paid in error during a specific period. This happens when your tax liability, the amount you owe in taxes, is less than what you've actually paid. If you're eligible for a refund, the KRA portal will indicate so, and you can proceed to make a claim.
Various circumstances can lead to income tax refunds, such as over-deduction of tax (PAYE) by your employer, not utilizing tax reliefs you qualify for, or being exempt from income tax due to disability.
If you've paid more taxes than required, the KRA will prompt you to claim an income tax refund, and they will reimburse the excess taxes you've paid. However, to qualify for these refunds and reduce your tax liability, you need to apply for claims via iTax within the designated five-year window from the tax payment date.
Read Also: Everything You Need to Know About Tax Refunds in Kenya
Efficient tax planning is key when it comes to minimizing your tax liabilities. However, this pursuit must be cautiously approached to avoid the pitfalls of fines, penalties, and legal repercussions. To start, ensure that you pay your taxes and fill out your return on time. Failure to pay tax on the due date can attract a penalty of 20% of the tax due.
Next, avoid dubious tax evasion schemes, such as concealing income or inflating deductions. If you are found guilty, you will pay fines equivalent to double the amount of tax you wanted to avoid.
Therefore, while striving to pay less taxes, it is paramount to prioritize adherence to legal guidelines to safeguard financial well-being and avoid legal entanglements with the tax Authority.
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